Essential Legal Agreements For Any Early-Stage Startup In Nigeria

INTRODUCTION

The last decade has witnessed the rapid growth of technology in Nigeria. According to the Center For Global Development, Nigeria is positioned as the largest tech market with 90 tech hubs and a growing customer base.[1] “Despite the COVID-19 pandemic, in 2020, the sector contributed 15 per cent of the country’s gross domestic product (GDP).”[2]

According to Statista, the data company, the number of start-ups in Nigeria in Nigeria is around 3,300. The highest in Africa. Nigeria is followed by South Africa and Kenya in this regard.[3] Bolstered by an entrepreneurial spirit and increased investor capital, the number of start-ups in Nigeria is expected to increase over the next five years.

Start-ups, by their nature, are known for having a fail fast system – a design system which encourages early business failures and enables you to get quick, quality feedback about what works and what does not, in relation to the product the start-up is producing. This concept may work for optimising products however one must remember that a start-up is also a business.

In a bid to become the next big tech unicorn, start-ups and their founders must ensure that they tie up all legal loose ends.

Why Start-ups need legal agreements?

A common mistake by start-up founders is the belief that legal agreements and documents are not necessary at the beginning of a business. Perhaps, convinced of the need.

Common mistakes made by start-up founders include:

  1. Not incorporating their businesses or incorporating the business in the wrong jurisdiction or under the wrong category.
  2. Not protecting their intellectual property.
  3. Failure to give early employees contracts.
  4. Failure to define the relationship between founders, if any.
  5. Failure to provide non-disclosure agreements.

And so on.

The problems listed above and many more make airtight legal agreements a need and not a luxury for early-stage start-ups.

This article explores important legal agreements/documents needed by early-stage start-ups.

  1. Certificate of Incorporation:

A certificate of incorporation is a document given by the corporate affairs commission, which signifies the existence of a company and the legal right for that company to do business.

Under Nigerian law, there are 4 practicable types of companies, namely;

  1. Private company limited by shares.
  2. Public company limited by shares.
  3. Private company limited by guarantee.
  4. Private Unlimited Company[4].

Under the Companies and Allied Matters Act, 2020, section 746 provides for a new business structure in the form of a Limited Liability Partnership (LLP). This business structure has the flexibility and tax status of a Partnership and also the limited liability status of a Company. it is also a legal entity with perpetual succession. This makes it an excellent alternative for start-ups that may not want to incorporate a company.

  1. Founders Agreement.

A Founders’ agreement is a legally binding document between the founders of a start-up. Everything from who’s engaged, how much they’ll give, each co-founder’s roles and responsibilities, stock ownership, legal services, and what happens if someone leaves can be covered. It’s a legally binding contract that protects each founder’s interests, and it should be written at the start of the company’s lifecycle (together with the business plan) to get it all out on the table before a group of co-founders jumps in.[5]

Essential contents of a Founders’ Agreement include the name and designations of the founders, the name of the company, the ownership structure of the company, the initial capital, and additional contributions, budgetary expenses and breakdowns, and the roles and responsibilities of each co-founder, equity and vesting clauses, the salary, and compensations for the co-founders, Intellectual property assignments, what should happen in the event of the departure or removal of a founder and ways of resulting any disputes.[6]

It is particularly important once a start-up has more than one founder.

  1. Simple Agreement for Future Equity (SAFE)

This is a relatively new type of start-up agreement introduced by the start-up accelerator, Y-Combinator in 2013. [7] It is an important instrument for start-ups that are fundraising.

SAFEs are made by a company and an early investor in order to create

future equity in the company for the investor in consideration for the investor’s immediate cash to the company. The purpose of the agreement is that it converts to equity at a later round of financing but only if a particular event, which is contained in the agreement, takes place.

Although similar to convertible notes, SAFE agreements differ from convertible notes in that while the former is a contract that may be converted into equity in future financing rounds, a convertible note is a short-term debt that converts into equity in the future financing round.

Clauses found in a SAFE agreement include Discount, Valuation Cap, Pre-Money/Post Money valuation measurements, Pro-Rate Rights, and Most-Favoured Nations Provisions.

  1. Shareholders’ Agreements.

A shareholders’ agreement is a contract between a company’s shareholders that explains how the business should be run as well as the rights and responsibilities of its shareholders. The shareholders’ agreement ensures all shareholders are treated fairly and that individual rights are guaranteed.

It also grants shareholders the ability to decide which external parties may become future shareholders and protects minority positions.[8]

A shareholders’ agreement includes a date; the number of shares issued; a capitalization table that outlines shareholders and their percentage ownership; any restrictions on transferring shares; pre-emptive rights for current shareholders to purchase shares to maintain ownership, and details on payments in the event of a company sale.[9]

  1. Non-Disclosure Agreement.

A non-disclosure agreement (NDA) is a contract that states that particular information will be kept private. As a result, an NDA binds the individual who signs it, prohibiting them from sharing any information contained in the contract with anybody who is not permitted. Trade secrets, client information, and other sensitive or valuable information are frequently protected by NDAs.[10]

This law outlines the legal framework for protecting ideas and information against theft or sharing with third parties. Defaulting on a nondisclosure agreement can lead to a host of legal consequences including lawsuits and financial penalties.

Important clauses in a confidentiality agreement include the definition of “confidential”; the duration of the agreement; exceptions to the confidentiality agreement if any; jurisdiction and governing laws and a dispute resolution clause.

  1. Employment Contract

An employment contract is an agreement between an employer and an employee that specifies the length of the employee’s employment.

It can be implied, oral, or written, and it usually involves the employee signing a lengthy physical contract. The conditions in the employment contract are usually determined by what was agreed upon when the employee decided to take on the job.

Clauses found in an employment contract are; name, job title and description, salary and compensation, dispute resolution, severability, and independent legal advice.

  1. Intellectual Property Assignment Agreement.

For many early-stage start-ups, having complete ownership of their intellectual property is of extreme importance.

An intellectual property assignment agreement assures investors that the intellectual property needed to run the company has been legally transferred to the company by the founders. This, in turn, boosts investor confidence in the start-up the effect of which is the attraction of much-needed funding to early-stage start-ups.

  1. Data Protection Guidelines

The documents above are by no means an exhaustive list of essential legal documents needed by start-ups but used conjunctively, they provide a good basic legal framework for early-stage start-ups.

CONCLUSION

On May 27, 2022, a legal complaint was filed by Liz O’Sullivan, the CEO of Algorithmic tech company, Parity, in a Delaware court against its founder, Rumman Chowdhury, along with Parity’s investment firm Propell Group; Propell Group’s founder and chairman Anders Lier; Parity’s CTO Jiahao Chen; and director of Data Science Michael McKenna. In the complaint, she alleges that the defendants used “strong-arm and intimidation tactics” to “seize control of the company and its assets,” and claimed the actions they took to remove her from her position as CEO were “improper and void.”

Among other things, a primary point of contention in the dispute is who was on the company’s board and when, and how many controlling shares they own.[11]

Circumstances like the one described above may be unavoidable but they are definitely mitigated by the presence of legal agreements, duly entered into by founders during the beginning stages of their start-up.

Oftentimes, legal advisory services are seen as unnecessary by start-up founders at the beginning of the companies due to a variety of reasons such as cost and the lack of time to find a good lawyer. However, founders are advised to engage the services of a good lawyer for their legal needs.

REFERENCE

  1. Anon. Nigeria’s Tech Sector Could Benefit from More Managed Migration. [online] Center for Global Development. 2021. Available at: <https://www.cgdev.org/blog/nigerias-tech-sector-could-benefit-more-managed-migration> [Accessed June 2022]
  2. Supra
  3. Anon. Africa: number of start-ups by country. [online] Statista. Available at: <https://www.statista.com/statistics/1290679/number-of-startups-in-africa-by-country> 2022 [Accessed June 2022]
  4. Section 21, CAMA 2020.
  5. Anon. How to Create a Founders Agreement. [online] www.startups.com. Available at: <https://www.startups.com/library/expert-advice/startup-founders-agreement> [Accessed June 2022]
  6. Supra
  7. Anon. YC Safe Financing Documents. [online] Y Combinator. 2022. Available at: <https://www.ycombinator.com/documents> [Accessed June 2022].
  8. Anon. nondisclosure agreement. [online] LII / Legal Information Institute. Available at: <https://www.law.cornell.edu/wex/nondisclosure_agreement>. n.d. [Accessed June 2022]
  9. Supra
  10. “Chen, J. Shareholders’ Agreement Definition. [online] Investopedia. Available at: <https://www.investopedia.com/terms/s/shareholdersagreement.asp>. n.d. [Accessed June 2022]
  11. Kaye, K, A start-up’s dispute with Twitter’s AI ethics head ‘could get ugly’. [online] Protocol. Available at: <https://www.protocol.com/enterprise/ai-ethics-parity-rumman-chowdhury> 2022. [Accessed June 2022].

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